"Bullshit," writes Princeton Philosophy Professor Harry Frankfurt in his best-selling book, "is a greater enemy of the truth than lies are." No one can dispute the pervasiveness of BS, which Prof. Frankfurt defines as a statement that is, “short of lying” but is still a deliberate misrepresentation, told by someone who "is trying to get away with something...[H]e is attempting to lead us away from a correct apprehension of reality."
Which brings us to the arguments against allowing a regulated financial institution to build balance sheet equity. To me, the idea of repudiating balance sheet equity, for the GSEs or any other company that assumes credit risk, is pure poppycock.
“One part of GSE reform is already working,” writes Mark Zandi of Moody’s Analytics. He refers to credit risk transfers, wherein Fannie or Freddie pay outsiders to assume certain levels of credit risk in various static mortgage pools. CRTs are, he says, “an unheralded success story.
That assessment is premature, because the viability of CRTs can only be tested during a cyclical downturn, which seems far off.
As reported in Howard on Mortgage Finance and elsewhere, the government's story—that it had no choice but to place the GSEs in conservatorship in September 2008--is undermined by contemporaneous documents unearthed in discovery in Fairholme v. US.
One document, a slide presentation about Freddie's capital presented by BlackRock, appears to refute Hank Paulson's story about placing the GSEs in conservatorship. In his memoir, On the Brink, he writes:
In my takedown of Perry v. Mnuchin, I mentioned that the D.C. Circuit gave short shrift to the statutory requirement to maintain adequate capital at the GSEs. That issue is fleshed out in further detail below.
The D.C. Circuit Court judges who wrote the majority (2-1) decision in Perry v. Mnuchin focused on the distinction between the words "may" and "shall." The statute, 12 U.S.C. § 4617(b)(2)(D), says the conservator may take steps to restore the soundness and solvency of Fannie and Freddie. But no statute expressly dictates that the conservator shall restore the companies' soundness and solvency. Which, according to the judges, must mean that the conservator may do any number of other things, such as draining the companies of all equity in perpetuity.
As I noted, the government's justification for the net worth sweep--to avoid a "dividend driven debt spiral"--was absurd on its face. It was also debunked by evidence obtained through discovery in a lawsuit brought in the Court of Claims.
Clever people can rationalize anything. They might take one or two factoids out of context, misrepresent the broader written record, and ignore the contravening evidence, so that they can arrive at an otherwise unsupportable conclusion. Exhibit A: The absurd outcome the D.C. Circuit case, Perry v. Mnuchin, which validates the government's net income sweep designed to drain all earnings and equity out of Fannie Mae and Freddie Mac. Judges Douglas Ginsberg and Patricia Millett (they don't specify who wrote the 2-1 majority decision) turn a blind eye to:
- the broader regulatory framework,
- tenets of accounting and finance,
- government documents in the public domain,
- common sense.
Kroll Bond Rating Agency all but ignored the first question in its report, “Housing Reform 2017: Can the GSEs be Privatized?" It simply failed to consider how Fannie Mae and Freddie Mac had been self-supporting for more than 35 years, right up until the day they were apprehended by the government. "KBRA reminds all concerned with the issue of housing finance reform that the GSEs failed because of a loss of confidence and market liquidity, not inadequate capital,” it says.
In response I wrote, "GSEs Have Been Ill-Served by Balance Sheet Equity Experiment," One excerpt:
[W]e know with absolute certainty why the GSEs' balance sheet capital remains close to zero. The Federal Housing Finance Agency engineered it that way. It chose to reduce Fannie and Freddie's equity by $250 billion in order to fund cash dividends to the Treasury. Irrespective of what Bright or anyone else thinks, the FHFA's decision-making could never be described as normal. It is never normal for an undercapitalized, regulated financial institution to pay cash dividends. It is never normal for a conservator to authorize any cash dividends prior to the company's emergence out of conservatorship.
I've posted a draft of a paper (see the button for GSE Reform Paper, above) that describes the evolution of the Washington consensus that deemed GSE reform to be synonymous with GSE abolition. This part of the paper covers the early weeks of 2011, which coincided with the release of final reports by the Financial Crisis Inquiry Commission and by the Department of Treasury with regard to housing finance reform.
"GSE Reform and a Conspiracy of Silence," should remind us of an essential skill for anyone in business, or anyone who wishes to be an informed voter. You must always keep your ears open for what people aren't talking about. And then you must figure out why they aren't talking about it. The collective silence from GSE reform advocates with regard to critical issues in mortgage lending seems deafening.
I agree with Dave Dayan in The Atlantic and Natalie Earhart in The Real Daily who pointed to a painful truth. The Obama Administration simply failed to grapple with the mortgage crisis in a meaningful way.
Indeed, when the country faced millions and millions of distressed mortgage loans, I think the President had only one viable option, which was probably too radical to be pursued or even discussed. The government needed to take control of the mortgage servicers.
In theory could you have private ownership of the GSEs? Yes. But we treat them as sovereigns right now. They are triple-A credits. So the moment you convince the bond market they are no longer a fully supported by sovereign entities, the U.S. Treasury. I think the nature of their operations will change. The spreads will change and the cost of loan to a consumer will change. How you do that is a complicated thing.
Mortgage lending is about risk diversification. As his latest blog demonstrates, few write about the subject with as much eloquence and precision as my friend, former Fannie CFO J. Timothy Howard. Whereas most advocates of GSE reform and GSE risk sharing transactions seem to ignore the issue. Maybe that's because their proposals, when evaluated in terms of risk diversification, lose credibility.
The old "implicit-guarantee-of-GSEs-didn't-work-so-make-the-government-guarantee-private-mortgage-securitizations" routine
Speaking on a panel on GSE reform at the Annual Distressed Investing Conference, Michael Frantantoni, chief economist for the Mortgage Bankers Association, invoked the, "implicit-GSE-guarantee-didn't-work-so-we-must-have-an-explicit-government-guarantee-of-residential-mortgage-securitizations" meme. As he put it:
What were some of the issues? A lot of it had to do with the ambiguity of these [government sponsored] enterprises. What was talked about was an implicit guarantee. You remember that during the end of June 2008 there were concerns about Freddie's ability to roll over their short term debt. And if you read Hank Paulson's biography, he was allegedly being threatened that China and Russia were going to pull back on their holdings of GSE securities, right?
Real money talks. It says the oft-repeated meme about Fannie Mae and Freddie Mac—that they ran a, “failed model of private gains and public losses that once forced taxpayers to write a $188 billion bailout check”—is a big fat lie. If I wrote the Fact Checker column for The Washington Post, I would assign four Pinocchios to the above quote by Sens. Bob Corker and Mark Warner. The claim is indefensible because the so-called losses, which triggered the so-called bailout, were bogus. Those massive non-cash accounting provisions, booked for fiscal years 2008-2011, were reversed by the end of 2013. Absent those illusory losses, the bailout of both companies would have approximated zero. Which is why the GSE business model never, “forced taxpayers to write a bailout check.”
"To see what is in front of one’s nose needs a constant struggle," wrote George Orwell, who aptly described the litigation surrounding the Third Amendment to the Senior Preferred Stock Purchase Agreement, under which the Department of Treasury purchased $187 billion in equity to "bail out" Fannie Mae and Freddie Mac.
What’s in front of everyone’s nose is that a conservator drained a quarter trillion dollars in equity out of two undercapitalized corporations. To anyone who ever completed a course in accounting or corporate law, what is in front of everyone’s nose should be easy to figure out. The cash dividends, which drained $250 billion out of Fannie and Freddie, were patently illegal.
In 2011, The Washington Post published "The Big Lie goes viral," by Barry Ritholtz, who refuted the popular myth that affordable housing goals imposed on Fannie Mae and Freddie Mac were a central cause of the financial crisis. But, like an ever-tenacious virus, a Big Lie keeps mutating, as evidenced by a Post editorial, "This Fannie-Freddie resurrection needs to die."
Denying the impact of derivatives
If you ever doubted that Douglas Holtz-Eakin is a shameless hack, read what he wrote in an R Street Policy Study titled, "Sizing Up The FCIC Report Five Years Later." His perversions of history would have embarrassed Kurt Waldheim.
"Fannie and Freddie are doomed according to the Washington way of thinking about it," said Peter Wallison. "We’re going to get rid of them somehow, so why even bother thinking about things like this." Wallison, from the American Enterprise Institute, addressed a conference hosted in September 2013 by a newly launched conservative think tank at NYU Law School. The panel discussion was titled, "The Reorganization of Fannie and Freddie."
Wallison mentioned "things like this" in reference to the legal claims asserted by GSE shareholders, who argued that a revision to the Senior Preferred Stock Purchase Agreements, the notorious Third Amendment earnings sweep designed to drain all corporate equity by way of cash dividends to the U.S. Treasury, was illegal.
Are credit risk transfers fatally flawed?
6 Aug, 2017
BlackRock document refutes Hank Paulson's story about GSE capital
3 Aug, 2017
More nonsense embedded within Perry v. Mnuchin, the "new capital paradigm"
19 Mar, 2017
More nonsense embedded within Perry v. Mnuchin, the DTAs
16 Mar, 2017
Perry v. Mnuchin: A case study in disingenuity
10 Mar, 2017
Kroll Rating Agency Frames GSE Reform Around Urban Myths
27 Jan, 2017
Is the Common Securitization Platform Legal?
10 Jan, 2017